Investing.com -- Japan's equities market could be entering a phase resembling the late-2023 "Fed pivot rally" as a sharp rise in U.S. long-term Treasury yields eases, although Bank of America cautioned that stronger fundamentals will be needed to sustain gains.
The U.S. Treasury's decision to double the cap on its buybacks of longer-dated government bonds could ease investor concerns over the recent rise in long-term yields, BofA said in a Japan equity strategy report dated Aug. 20. The Treasury will raise the buyback cap for securities maturing in 10-20 years and 20-30 years to at least $4 billion per operation from $2 billion between Sept. 9 and Nov. 4.
The move echoes conditions seen in November and December 2023, when U.S. long-term yields fell sharply as economic data weakened, inflation slowed and markets began pricing an end to Federal Reserve rate hikes. Japanese equities rose toward year-end despite a significant appreciation in the yen.
BofA, however, said the current backdrop differs from 2023. The yen has remained weak despite coordinated foreign-exchange intervention, Middle East turmoil has replaced the sharp decline in oil prices seen in late 2023, and a manufacturing recovery could drive both higher Japanese corporate earnings and higher interest rates. Expectations that the Bank of Japan will accelerate rate hikes also mean it may be premature to assume the rise in rates has run its course.
The bank said the Treasury's larger buybacks could prevent long-term yields from rising unchecked, but without a material change in economic fundamentals, yields could remain elevated. That would leave Japanese equities in an environment of "profit growth plus rising interest rates," rather than the falling-rate backdrop that supported the late-2023 rally.
BofA expects the market to gradually shift away from momentum- and beta-driven performance toward greater stock selection. It urged investors to be selective among artificial-intelligence-related shares based on earnings and valuations, while highlighting IT services, gaming and intellectual-property companies that lagged the AI rally but have reported strong first-quarter results.
Domestic-demand stocks could also benefit if the yen stabilizes, while small- and mid-cap growth stocks could recover if the currency stops weakening. BofA expects value stocks to retain an advantage as long as interest rates continue to rise.
The bank noted that most of these themes resemble the November-December 2023 market, but concluded that the overall environment is likely to favor stock pickers rather than another broad, momentum-led rally.
Japan's stock market setup looks similar to late 2023. Here's what it means
JPMorgan outlines ten strategic themes that could shape the outlook for 2026
As Claude disrupts stock market, Anthropic researcher warns 'world is in peril'